The short answer to this question is they differ in timing of valuation. Both pre-money and post-money are valuation measures of companies. Pre-money valuation refers to the value of a company not including external funding or the latest round of funding. Post-money valuation includes outside financing or the latest capital injection. It is important to know which is being referred to as they are critical concepts in valuation.
What’s The Difference Between Pre-Money And Post-Money?
Let's explain the difference using an example. Suppose an investor is looking to invest in a tech startup. The entrepreneur and the investor both agree the company is worth $1 million and the investor will put in $250,000.
The ownership percentages will depend on whether this is a $1 million pre-money or post-money valuation. If the $1 million valuation is pre-money, the company is valued at $1 million before the investment and after investment will be valued at $1.25 million. If the $1 million valuation takes into consideration the $250,000 investment, it is referred to as post-money.
As you can see, the valuation method used can affect the ownership percentages in a big way. This is due to the amount of value being placed on the company before investment. If a company is valued at $1 million, it is worth more if the valuation is pre-money than if it is post-money because the pre-money valuation does not include the $250,000 invested. While this ends up affecting the entrepreneur's ownership by a small percentage of 5%, it can represent millions of dollars if the company goes public.
This topic gets very important in situations where an entrepreneur has a good idea but few assets. In such cases, it's very hard to determine what the company is actually worth and valuation becomes a subject of negotiation between the entrepreneur and the venture capitalist.
(For further reading, see: Valuing Startup Ventures.)